Fitch Revises Lesotho's Outlook to Negative; Affirms at 'BB-'
KEY RATING DRIVERS
The revision of Outlook to Negative reflects the following key rating drivers and their relative weights:
Fitch forecasts a significant deterioration in public finances, with projected deficits of 2.3% and 7.4% of GDP in fiscal year-ending March 2016 (FY16) and FY17, compared with a surplus of 0.6% of GDP in FY15. This is due to a fall in South African Customs Union (SACU) revenues, which we forecast to fall to 15.9% of GDP by FY17 from 26.4% in FY16 and spending rigidities. The deficit will be funded from government deposits, forecast to fall to 21% of GDP in FY17 from 24% in FY15 and government borrowing. The agency expects the deficit to be 7% of GDP from FY17.
Fitch forecasts gross general government debt (GGGD) to increase to 47% of GDP by FY17 from 45% in FY16, with potential for further increases. External debt comprises 90% of GGGD and with the depreciation of the loti, pegged to the South African rand, GGGD has increased at a faster rate than expected. Higher government borrowing has also contributed to the increase, with GGGD now exceeding the 'BB' median of 42.8% of GDP. Fitch forecasts the general government's net debt position will also increase to 26% of GDP in FY17 from 18% in FY15.
Continued political tension is affecting governance. This is highlighted by the recent deterioration of World Bank governance indicators and circumstances surrounding the commission of inquiry investigation into the death of a general. Tensions between political factions last year resulted in the South African Development Community (SADC) intervening. Fitch expects stability to prevail in the medium term although Lesotho's history suggests bouts of political instability remain possible.
Growth is weaker than previously forecast due to reduced (SACU) revenues. The economy is highly dependent on government expenditure. This has been exacerbated by the unstable political environment causing lower investment, consumption and confidence. As such, Fitch forecasts growth at 3% in 2016 and 2.7% in 2015 from 2.5% in 2014 versus previous forecasts of 4.0% in 2016 and 4.8% in 2015. New mining capacity and initial work on Lesotho Highlands Water Project (LHWP) will add to growth.
Lesotho's 'BB-' IDRs also reflect the following key rating drivers:
Lesotho's 'BB-'rating is supported by the local currency's peg to the South African rand, which has contributed to macroeconomic stability. With large government deposits, forecast at 24% of GDP in FY16, and mostly held at the central bank, this will continue to support Lesotho's official foreign reserves and its position as a net external creditor.
Fitch forecasts the current account deficit (CAD) will widen to 7.3% of GDP in 2016 and 6.2% in 2015 from 2.5% in 2014 as a result of weaker demand for exports due to weak global growth and initial work on LHWP drawing in imports. The first part of phase II of LHWP will be funded by South Africa. The CAD will be funded by a combination of grants and falling SACU revenues. Reserves will remain adequate but will deteriorate slightly to 4.2 months of current external revenues (CXP) in 2016 from 4.5 months in 2015.
The main factors that could lead to a downgrade are:
- A failure to consolidate fiscal accounts due to pressure from non-capital spending and/or a faster-than-projected fall in SACU revenues, leading to a material weakening of debt ratios and an erosion of government deposits.
- Continued political turmoil that further affects macro stability, GDP growth and potentially external financial support from the international community.
- A faster-than-projected deterioration in the current account balance due to a fall in SACU revenues leading to a decline in foreign reserves
The current rating Outlook is Negative. Consequently, Fitch does not currently anticipate developments with a material likelihood of leading to an upgrade. However, the following factors could lead to positive rating action:
- Higher GDP growth, supported by an improvement in the business environment and political stability and diversification in the economy.
- Further progress in diversifying the revenue base and growing tax receipts that lessen the dependence on SACU revenues.
Fitch assumes that economic growth in Lesotho will be supported by a gradual recovery in its key economic partners, namely the US, Europe and South Africa.
Fitch assumes there will be no major revision to the SACU revenue-sharing formula that could negatively affect SACU revenues to Lesotho. Fitch also assumes the African Growth and Opportunity Act (AGOA) will be recertified in 2015.